Horizontal Differentiation: An Improvement Upon the Human Capital Stock Index in Growth Accounting

Abstract

In the development growth accounting of cross-country income variation, the human capital stock index has become an increasingly important explanatory factor. At the same time, its value is very sensitive to measurement decisions, making accurate proxies for human capital essential for reliable accounting. The existing literature has progressed to quantify human capital through stratifying by level of educational attainment and weighting each level by its marginal productivity. As explored in the microeconomic literature, however, increased college participation in the past 30 years has made ‘‘field of study’’ increasingly important in the determination of life outcomes and earnings. Drawing on a recently published data set containing college graduates by field of study in 45 countries, I am able to differentiate college educational attainment horizontally, that is by field of study. My newly developed human capital stock index increases the explanatory power of observables in cross-country income variation relative to the previous index by 48 percent, with more conservative but consistently positive increases in alternative accounting measures. This study helps to recognize the importance of horizontal differentiation in education and calls for more macroeconomic research in the topic.